Deflation's Final Curtain Call - Part II

As the 60-year cycle enters its final few weeks of descent, a few conclusions
can be made. We can also make some projections as to what the foreseeable future
might hold based on the upcoming bottom of this important economic cycle.

Since the 60-year cycle is the primary cycle governing inflation and deflation,
it makes sense that its impact will be most strongly felt in the prices of
inflation-sensitive commodities. Its force is also evident in wages, interest
rates, and other factors which influence the general course of the economy.
One of the biggest areas affected by the cycle is in earnings and income growth.

The graph below shows the year over year change in total earnings in the U.S.
since the 1960s. The peak in earnings on a percentage change basis occurred
around the time of the last 60-year cycle peak in the early 1980s. After the
plunge of the 1980s, earnings growth for production and nonsupervisory workers
has never come close to regaining the peak from 30+ years ago. This exhibit
provides some context for the influence of the economic long-wave and the economic
trends it generates.

Many observers have noted the disparity of fortunes in recent years between
the upper and lower classes within the U.S. The recovery of the last five years
has unquestionably benefited the upper class (the so-called "1 percent"). The
massive rebound in equity prices has helped the rich much more than the middle
class due to the increased exposure to the stock market enjoyed by the former
group. The middle class by contrast has seen its fortunes wane since the crisis
years of 2007-2008. This is due in part to the middle class's lower exposure
to equities and can also be attributed to the lack of wage growth.

Another important reason for the lack of a strong rebound in the middle class
economy can be seen in the following graph.

The above graph shows the expenditures of the federal government going back
the last several years. Following a brief spike in government spending in the
post-credit crisis period, the rate of change in expenditures plummeted and
has never quite recovered to its much higher historical average. This is one
of the key reasons why the middle class economy has been relatively slow to
recovery since 2008.

During the last five years the middle class has seen its tax burden rise along
with cost of living increases, yet there has been no commensurate rise in services
provided. In other words, the government has continuously taken from the pockets
of the working class without giving back in the form of direct spending, such
as infrastructural repairs, contract building, etc. This refusal to spend by
the government during a time of acute crisis for the middle class is effectively
an austerity policy. Government has persistently focused on lowering the budget
deficit in recent years by raising taxes and through forced spending (e.g.
Obamacare) instead of cutting taxes, which paradoxically would have increased
government tax receipts through the higher levels of consumer and business
spending it would have engendered.

What we have witnessed during the past five years has been a dual fiscal and
monetary policy of both austerity and stimulus: government fiscal policy has
been austere while central bank monetary policy has been liberal. The net result
of this conflicting set of policies has been to force the brunt of the deflationary
60-year cycle upon the middle class while shielding the moneyed classes from
its effects.

Indeed, the Fed's loose monetary policy known as QE has all but blunted the
impact of the final deflationary leg of the 60-year cycle for the financial
sector. Equity prices were largely exempt from the final 5-6 years of the deflationary
long-wave. The 2008 credit crash was essentially the "super crash" that many
long-wave analysts were calling for. It arrived a few years ahead of schedule
but was still within the final "hard down" phase of the 60-year cycle (defined
as the last 10 percent of the cycle's duration). The recovery since the 2008
super crash was fierce and unprecedented, thanks largely to the scope and scale
of the Fed's intervention.

Now that the 60-year cycle is winding down we can see the last vestiges of
its deflationary pressure in certain inflation-sensitive commodities. The crude
oil price has been in decline since June, as you can see in the following graph.
Since a wide range of retail consumer prices are based on the oil price, the
lower the price of oil goes, the better it will bode for the retail economic
outlook entering 2015 once the new 60-year up-cycle kicks off.

Kress Cycles

Cycle analysis is essential to successful long-term financial
planning. While stock selection begins with fundamental analysis and technical
analysis is crucial for short-term market timing, cycles provide the context
for the market's intermediate- and longer-term trends.

While cycles are important, having the right set of cycles is
absolutely critical to an investor's success. They can make all the difference
between a winning year and a losing one. One of the best cycle methods for
capturing stock market turning points is the set of weekly and yearly rhythms
known as the Kress cycles. This series of weekly cycles has been used with
excellent long-term results for over 20 years after having been perfected by
the late Samuel J. Kress.

In my latest book "Kress Cycles," the third and final installment
in the series, I explain the weekly cycles which are paramount to understanding
Kress cycle methodology. Never before have the weekly cycles been revealed
which Mr. Kress himself used to great effect in trading the SPX and OEX. If
you have ever wanted to learn the Kress cycles in their entirety, now is your
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Clif Droke is a recognized authority on Kress cycles and internal
momentum, two valuable tools which have enabled him to call most major stock
market turning points from 1997 through the present. He is the editor of the
Momentum Strategies Report newsletter, published three times a week since 1997.
He has also authored numerous top-selling books, including his most recent
one, "Kress Cycles." For more information visit www.clifdroke.com

Clif Droke is the editor of the two times weekly Momentum Strategies Report
newsletter, published since 1997, which covers U.S. equity markets and various
stock sectors, natural resources, money supply and bank credit trends, the
dollar and the U.S. economy. The forecasts are made using a unique proprietary
blend of analytical methods involving cycles, internal momentum and moving
average systems, as well as investor sentiment. He is also the author of numerous
books, including most recently "The Stock Market Cycles." For more information
visit www.clifdroke.com